Payday Loans Can be Addictive

NEW YORK (MainStreet)  Imagine trying to pay off a short-term loan with an interest rate of nearly 400%. That's the debt treadmill many borrowers face with payday loans, according to the Federal Trade Commission (FTC). And while proponents say these "cash advances" help families with few financial resources meet unexpected expenses, a 2012 Pew Research study reported that only 16% of payday loan customers borrowed money to pay for an emergency need. Instead, more than two thirds (69%) used the funds to meet a recurring expense, such as paying the rent or buying groceries.

It's a money pit deep and dangerous: the majority of payday borrowers renew their loans so many times they end up paying more in fees than the original amount of money they borrowed. The Consumer Financial Protection Bureau (CFPB) says four out of five payday loans are renewed within 14 days.

"We are concerned that too many borrowers slide into the debt traps that payday loans can become," said CFPB Director Richard Cordray. "As we work to bring needed reforms to the payday market, we want to ensure consumers have access to small-dollar loans that help them get ahead, not push them farther behind."

The high-interest, small-dollar loans are often $500 or less, but over 60% of the loans are a part of rollover loan sequences lasting seven or more loans in a row. Nearly half of all loans are made with renewals of ten or more loans in a row. With a typical payday fee of 15%, consumers who take out an initial loan and six renewals will have paid more in fees than the original loan amount, according to the CFPB.

The study found that four out of five payday borrowers either default or renew a payday loan over the course of a year. Only 15% of borrowers repay their loan when due without re-borrowing again within 14 days. Fully 20% default on a loan at some point -- 64% renew at least one loan one or more times.

One out of five borrowers remained in debt the entire year of the CFPB study, a category of borrowers of which more than half (58%) were elderly Americans or disability recipients receiving Supplemental Security Income and Social Security Disability.

Lenders issued $40 billion in payday credit in 2010, generating revenues of $7.4 billion. About 5% of U.S. households have at some time used payday lending according to a Federal Reserve report issued in January.

States concerned with payday lending practices have passed numerous laws to regulate it, some of which may be implemented in forthcoming federal regulations. Such laws include interest rate caps, loan-size restrictions, term limits and renewal ("rollover") limitations.